The article first appeared on OMFIF on Jan3rd, 2025

Emma McGarthy is Head of the Sustainable Policy Institute, OMFIF

Consistent standards and incentives for investors will be crucial for progress

Global public investors are increasingly recognising the risks associated with climate change and are exploring portfolio strategies to support the decommissioning of dirtier industries. To do this, it is crucial they implement clear and credible transition plans.

In ‘Global public funds and transition finance’, OMFIF spoke with public investors to uncover the opportunities, risks and challenges in the decarbonisation drive. The report, which launched at COP29 in Baku in November, is based on the conversations of the Transition Finance Working Group, featuring public pension and sovereign funds with a combined £5tn in assets under management.

One fund interviewed for the report stated that asset owners need to understand ‘what the decarbonisation levers are, what the abatement costs are. Being able to develop that map curve is really important for the next five or so years.’

Despite this, the majority of asset owners do not yet track the transition plans of the companies they invest in. An asset owner declared that ‘most listed companies have transition plans but the ones with credible plans are few’. As funds implement net-zero targets and portfolio transition strategies, establishing assessment processes to measure and benchmark their supply chain activities is essential.

Barriers persist

One fund noted that evaluating the efficacy and the financial viability of transition plans is challenging due to divergence in approaches across sectors and jurisdictions. Another fund observed that, ‘for some of the generation facilities, especially in the US, the transition plan in the next 10 years isn’t really there’. This contributes to the lack of timely and reliable data, which remains a barrier to developing credible transition plans.

There are conflicting dynamics between government approaches and investors’ transition plans. ‘Countries whose economies will be 30% of global gross domestic product in 2050 admitted that they wouldn’t be able to reach net zero until between 2060 and 2070,’ said one fund. ‘So, to be an institutional investor and reach net zero by 2050, you either need there to be an aggressive increase of ambition in nationally determined contributions or an implicit commitment to divest probably 50% of the world’s assets by 2050.’

It is clear that the current policy environment is not aligned with market outcomes. For there to be meaningful progress in 2025, policy-makers need to provide more clarity and incentives for stakeholders to invest in the transition.

What needs to change?

Consistency in reporting questions and survey models would enable the investor community to meet disclosure requirements. Guidelines can help stakeholders in understanding transition opportunities. Global public investors are engaging with stakeholders and supply chains to begin decarbonisation, and some have taken active steps to invest in and decommission dirtier industries. However, there is a need for criteria and guidelines for shareholders, clients and risk managers to aid in understanding what a transition investment is and how asset ownership is taking place.

‘I think if you could come up with a way to certify that this is a transition investment and have high conviction it will deliver the absolute emissions reductions, hopefully institutions could go to their stakeholders and say: “I’m planning to put 25% of my balance sheet into things that are grey, that are headline level.” We’re only going to do these where our partners have high conviction in the ability to decarbonise. But at the moment that would require hundreds of institutions to be reneging upon commitments,’ said one fund.

Consistent standards and an incentivising policy environment will play important roles in ensuring the financial market transitions, and huge strides have been made in this regard. However, there is a fine line between the need for standards, criteria and metrics to support transition and an overbearing proliferation of frameworks that do not account for varying capacity and needs. Clearer definition on transition investments and funds is evidently needed, and guidance on how to manage asset ownership would help global public investors to unlock opportunities in the transition.

In OMFIF’s conversations with public investors, the International Sustainability Standards Board received a ringing endorsement as the preferred body to drive interoperability and consistency. As we go into 2025, let us hope that authorities across jurisdictions and industries listen and adopt ISSB across the economy.